Morningstar Magazine - June/July 2018 - 10

Dispatches

The Rise of NonInvestment Advisors
Removal from the
investment process is
nearly complete.
PHILLIPS CURVE

Don Phillips

Investment advisors are being pushed
out of the investment business. The trend started
decades ago, and now with the advent
of packaged investment products and their
enthusiastic embrace by fund companies,
individual investors, and even advisors themselves, the trend has perhaps reached its
logical conclusion. Advisors have transitioned in
both their own minds and in the public's
perception from being investment advisors
to being relationship managers. Now, admittedly
a huge number of activities occur under
the financial planning umbrella, and advisors
bring diverse talents to the table as they address
a multitude of client needs. Still, the trend
of curtailing the advisor role in the investment
process is undeniable.
Decades ago, advisors often defined themselves
as stock-pickers. Using either their own
research or that of their parent brokerage firms,
they would construct portfolios of blue-chip
stocks and perhaps a few fliers for their clients.
They would also ladder bond portfolios or
pick a few municipal or utility bonds to add income
to the portfolio. No scorecard of their success
was kept, but the record was likely spotty.
Eventually, the costs and limited diversification
of these portfolios came to be seen as disadvantages, especially before deregulated stock
trading commissions. Mutual funds presented
themselves as a solution, and advisors
shed their role as security selectors and adopted
the new role of selectors and evaluators of
fund managers.

Morningstar June/July 2018

Now freed from the need to be linked to a
brokerage firm's stock research, the independent
financial planner movement really took off.
With their newfound independence, advisors
became investor advocates, searching out
the best managers, seeking lower-cost options
for their clients. They turned the tables on
Wall Street. Rather than selling what they were
told to promote, advisors could direct assets
to the best managers in the market. While
there was much to like with this system, picking
managers proved difficult as many muchloved managers stumbled and disappointed. Also,
the costs of these investments still took a toll,
especially when coupled with the advisors' fee.
It was then that the index revolution took
hold. Despite the success many advisors had had
in selling funds like those from the Capital
Group, academics told advisors they had no
business picking investment managers and instead
should build portfolios out of index funds.
Manager selection was too difficult, they were
told, but not to worry, advisors were still left with
the mission-critical task of asset allocation,
which they were told was where the vast majority
of the value was. And with the lower fees
from index funds, the advisors' fee could be more
readily justified. If the resulting portfolios looked
too much like something the client could do
on his or her own, the fund industry offered up
exchange-traded funds-some basic, but many
exotic-that advisors could use to spice up
portfolios and dazzle clients with their responsiveness to that week's hot topic. That this was
all done with an academic halo of cost reduction
and market efficiency made this approach seem
all the better.
Today, this trend of pushing advisors out of the
investment decision-making is reaching its
logical conclusion. Advisors are being told that
their continued involvement in portfolio
construction-even in this greatly diminished
capacity of merely stringing together
index funds-is still too great. Vanguard's recent
pronouncements under new CEO Tim Buckley
signal that firm's intent to move boldly
into services like basic allocation and rebalancing.
Vanguard argues that robo-advisors and
packaged services are far more efficient at

portfolio construction than are advisors.
Vanguard maintains that advisors should focus
on client relationships, perhaps including
behavioral coaching and some more complex
financial planning, but certainly advisors
should have very little to do with traditional
investment selection.
And, thus, the cycle reaches its logical conclusion.
Advisors have been increasingly removed
from the investment process-first from security
selection, then from manager selection, and
now from portfolio construction. These trends have
advantages. Costs are declining, and diversification is rising. Investors on the whole are likely
to be better served, especially beginning investors
who benefit from simpler solutions like targetdate funds. Obviously, some advisors will continue
to select individual securities, and many will
continue to deploy actively managed funds. Most
will also continue to have a hand in portfolio
construction for now, but the odds are strong that
advisors of the future will do less, not more,
of these activities.
There's a great irony that advisors are dialing
back their involvement in the investment
process at the same time that the independent
advisor community is dialing up its rhetoric
about being fiduciaries. A fiduciary standard
is a wonderful thing and something that is entirely
appropriate for someone who is making
investment decisions. Surely, fund managers and
robo-advisors who craft packaged portfolio
solutions should be held to such a high
standard. But if advisors don't pick stocks, don't
pick managers, don't even determine the
asset allocation of a client's portfolio, should they
be held to that same standard? I have great
respect for anyone who embraces higher
standards, but it's worth asking: If the advisor's
task no longer includes selecting investments,
is a suitability standard perhaps the more
appropriate expectation? After all, today's advisor
is not your father's stockbroker. K
Don Phillips is a managing director with Morningstar. He is
a member of the editorial board of Morningstar magazine.

Table of Contents for the Digital Edition of Morningstar Magazine - June/July 2018